Invoice Factoring And Invoice Discounting – A Brief History

Factoring, as old as the pyramids you say? Even older…

Never heard of invoice factoring before? Thought it was something new? You will be surprised to know it’s almost as old as sliced bread! Get the history and learn if you might benefit from using it…

The concept of invoice factoring revolves around buying a business’s unpaid invoices and providing them funds against these. Factoring existed as far as 5000 years ago and its beginnings can be traced to Iran. It has evolved into a financial tool that is both logical and easy to use today.

The word ‘factor’ originates from the Latin verb ‘facio’, which means ‘he who does things’ and was applied to real estate agents. Before the 20^th century, a factor was an intermediary, who facilitated businesses in functions such as warehousing, selling commodities supplied to the agent and accounting to the businesses for the payments and doing credit checks on the buyers.  Often, the business owners received advance payments prior to the sale.

Initially, the sellers got a guarantee as security to ensure that buyers would indeed stick to their commitment. On behalf of the sellers, agents actually sold the goods and issued the necessary invoices, credit, both with and without recourse, along with other services.

Invoice Factoring can also be traced back to the time when the first business transaction took place amongst the ancient Sumerians, who specialized in middlemen-functions. The Assyrians acted as commission agents and financed the trade caravans. Later, the Babylonians came up with another concept that involved paying certain third parties.  The Greek pioneered credit purchases, instead of using borrowed cash to pay for purchases.

Around 1620, the Pilgrims who arrived at Plymouth Rock were deeply in debt. True factoring started, where they made a business arrangement with the factors in England and supplied their goods to make up for their debts.  Then, in the 18^th century, thanks to the opportunities available, the real foundation for factoring and discounting was established. The Lancashire mill owners recognized this and were eager to capitalize and grow their wealth. However, they had the challenge of crossing the Atlantic at a time when technology did not extend to computers and speedy communication. Assessing their customer’s credit-worthiness was a tough affair, not to mention payment collections. This gave birth to factors, who provided the service of performing credit checks on customers, stocking goods, following up on payments and ensuring that the business owners received their payments.

The factors flourished to the extent that they were actually in a position to finance their customers based on their trade value. Communication facilities grew, along with advanced transportation methods, which made it easier for the business owners to handle their delivery logistics. Gradually, the factors began to specialize in funding and payment collections. These are the factors, as we know them today.

In the US, factoring was associated mainly with the textile and apparel industry. The factor bought the clients’ accounts receivables without recourse to the client. Here the business’s customers were aware of the invoice factoring arrangement. The factors took care of managing the accounts receivables, credit checks and approvals.

The factors also became responsible for the credit risks, financed the business owners against their accounts receivables and provided consultancy services.